- Agricultural commodity prices are low and the sectors seems disregarded.
- The weather is random and after 5 bumper crop years, investors don’t expect a change but a change can always happen.
- We’ll analyze the environment to see what kind of investments to seek out.
There’s a joke where I come from that just when a local taught his donkey not to eat, it unfortunately died on him.
Of course, we all need to eat on a daily basis which creates a constant demand for food. On top of it, the global population in increasing which should lead to even higher demand.
Higher demand for food will also come from a higher development level which leads to higher food consumption, especially for complex foods. Nevertheless, the global growth in arable land is limited and there could also be many water irrigation issues.
However, the S&P Agriculture index has been declining over the past 6 years.
The reasons behind such a performance are multiple. High past fertilizer prices have led to over investments that now allow for extremely low fertilizer prices, low oil prices lower the input costs, while the relatively good weather in combination with technological improvements further increases farmland yields.
Low oil prices have also reduced the attractiveness of ethanol which has significantly lowered the interest for corn. However, a long-term investor can’t overlook the long term volatility in corn or other food commodity prices and expect the same to happen in the future. The key is to position oneself early.
What’s interesting is that Asia is going to rely on demand while the U.S. and Latin America will be the exporters.
The U.S. Department of Agriculture’s (USDA) monthly World Agricultural Supply and Demand Estimates shows how global demand for food is slowly but steadily rising.
Global supplies have been rising too, but they are easily affected by shocks like the weather. We are in an environment that has seen 5 years of bumper crops now with the last severe drought seen back in 2012. If there are two or even three years of bad weather, we could really see global prices spike. It’s incredible how the sector gets complacent quickly and people really forget about the potential risks and how food commodity prices are usually very volatile.
Therefore, the best way to invest in such trends is to position yourself accordingly with part of your portfolio. What you are looking to be exposed to is higher demand coming from population growth and limited supply and perhaps bad weather. However, the most important thing when investing in such trades is to stay ahead of what can happen. By waiting for clear indications of higher prices and positive sector moves, you will easily miss the train.
The point is to find investments that offer a decent, satisfying return at this moment in time with the potential bonus of much higher future profits. We’ll be digging deeper into what specific food stocks offer in future articles, but what’s important to discuss is that investments in agriculture offer a limited downside which is something very rare in the current investment environment.
Given that food prices have been depressed, it’s more likely to see some upside than downside. Further, excluding a full blown financial crisis like what we saw in 2008, agricultural stocks are a great defensive play for the next recession. Food demand will remain stable globally and therefore their margins possibly, too. Even in 2009, agriculture related investments didn’t see too much fundamentally related trouble.
From a cyclical perspective, it’s clear that there will be more demand for food but it’s also clear that the current environment isn’t so supportive for higher food prices. However, the potential is there and nobody knows when it will show itself.
Another interesting reason to invest in food related stocks is inflation protection. The price of food commodities doesn’t really move in tandem with inflation as there are many other factors that impact food prices, but it certainly does move higher with time.
Food commodities might be another way to hedge yourself from the crazy global monetary policies of the last decade.
I think food commodities and related investments should be a significant part of every portfolio that rebalances when necessary. When food prices and profits are high, as was the case in 2012, one should trim their exposure and while the situation isn’t that stellar, one should really try to pick cheap stocks in the sector.
Just as an example, the stock for Archer Daniels Midland (NYSE: ADM) hasn’t really moved in the last 3 years while the S&P 500 has rallied.
Given the positive sector forces, there could be very positive news coming. When? I don’t know but certainly the long term rewards seem to heavily outweigh the risks.
Keep reading Investiv Daily as I’ll provide a short overview of the top agricultural stocks and ETFs for portfolio exposure tomorrow.